News

Does your accountant know all your super assets?

New rules on claiming exempt current pension income may mean big changes to the operations of self-managed super fund administrators.

When the government introduced the $1.6 million transfer balance cap, it also passed several integrity measures aimed at ensuring the cap generated the expected tax revenue. One of these was legislation to prohibit self-managed super funds (SMSFs) with members with large super balances from using the segregated method when claiming ECPI.

Funds whose members are affected by the transfer balance cap are likely to now have both tax-free retirement phase income streams and accumulation accounts. The government feared trustees might use the segregated method to cycle assets between supporting the accumulation and retirement-phase accounts to get the best tax outcomes.

For example, a low-yielding rental property might be segregated to support the accumulation account to maximise expense deductions, but then transferred to support the pension account when it comes to selling it, thus ensuring the capital gains are entirely tax free.

Banning segregation of assets

Like a lot of the super reform measures, the “disregarded small fund assets” legislation introduced to tackle this perceived issue is complex. A fund will not be able to use the segregated method in a particular income year if the fund:

has a retirement phase income stream, or pension account, during the income year in question;

and on 30 June just before the start of that year, a member of the fund has a total superannuation balance of more than $1.6m and has a retirement-phase income stream (the retirement-phase income stream does not have to be in the SMSF).

These rules throw up several oddities for SMSF professionals. One quirk is that the rules refer to a fixed figure of $1.6m, rather than to the transfer balance cap. The transfer balance cap is indexed with inflation so is likely to increase over time. However, the test for this rule will always refer to $1.6m, meaning that more funds will be affected.

Further, it is possible for an SMSF to have only retirement-phase accounts, but be ineligible to use the segregated method. For example, a member may have a pension in their SMSF worth less than $1.6m, but the value of their super accounts outside the SMSF brings their total superannuation balance above $1.6m. This anomaly was raised in several submissions to government on the draft legislation, including by the Actuaries Institute. However, no changes were made when the final legislation was passed.

Claiming exempt current pension income

From 1 July 2017, SMSFs that have one or more periods where the fund is solely supporting retirement-phase income streams will be required to use the segregated method in those periods when claiming ECPI. This will affect funds whose members who are fully retired with their assets only supporting retirement-phase income streams. It will also affect funds that have a mix of pension and accumulation accounts, but during the year have periods where assets are solely supporting retirement-phase accounts.

For example, many funds re-boot pensions on 1 July meaning they will start the year fully in retirement-phase and hence be segregated. When members subsequently make contributions, the fund will switch to being unsegregated.

However, this requirement is void if a fund has disregarded small-fund assets and is ineligible to use the segregated method. In this case, such funds must use the unsegregated method to claim ECPI for all income. There is now no choice in how ECPI can be claimed. If a fund is eligible to use the segregated method then it is obligated to do so, if not, then it must use the unsegregated method.

Unfortunately, there is more to it than just the requirement for an actuarial certificate. Unless a fund is in retirement-phase all year the calculations under the two methods will differ. Depending on when income is earned and capital gains realised, the different methods are likely to result in different ECPI claims.

To complete a tax return for an SMSF, tax agents must first know whether a fund is eligible to use the segregated method. To apply this test, knowledge is required of each member’s total superannuation assets at the previous 30 June. Account balances will be needed for any superannuation funds the members may have, including industry, retail or government funds.

An SMSF tax return may no longer be able to be completed in isolation. This is a crucial change that will have implications for many SMSF administrators, particularly those who don’t have a first-hand relationship with all members of the SMSF. Given that 30 June account balances for many super funds aren’t available until several months after year-end, it is also likely to cause delays in processing and lodgement.

How to keep it simple

There is a solution to simplify the tax return process and claim ECPI for an SMSF, without all this new complexity. Maintaining a very small accumulation balance that remains in the SMSF will mean a fund will never have a period where assets are solely supporting retirement-phase income streams.

It will then avoid the possibility of having to use the segregated method altogether, removing the uncertainty and requirement for additional information.

A small or notional accumulation balance will not materially affect the tax-exempt percentage when using the unsegregated method so the ECPI will be largely unchanged. Using the unsegregated method has other advantages too.

It allows losses to be carried forward to future years and reduces the administrative complexity where a fund may otherwise move between segregated and unsegregated periods during an income year. Of course, there is the additional cost of an actuary’s certificate, but these are relatively inexpensive and can be ordered directly via most SMSF accounting software platforms.